FDIC-Backed and Why You Should Care

October 12, 2018

You know the orange Chance cards you used to draw when you played Monopoly? Remember the one where the little guy was so broke he was wearing his pockets on the outside of his pants? Well, imagine that guy is your bank, and through bad luck or bad decisions, they negatively affect your life. You go to get a loan, and they aggressively try to get you to borrow more than you can afford. Or, when you show up to get your money, they just shrug, and you’re out of luck. Things are different today and the protections for account holders and borrowers for certain banks are better than ever, but how did we get here? What exactly does FDIC insured mean?

Banking used to be very risky.

Believe it or not, that’s pretty much how things were for a long time in the United States, and it happened quite a bit. Lending practices were not necessarily based on sound data and information. More than a third of the banks in the1920s closed their doors, and deposit holders had little recourse. That’s why many people of that generation had a deep distrust of banks and why you may have heard stories of people stashing money in their mattress or burying it in a jar in the backyard to keep it safe.

The creation of the FDIC.

You’ll notice that most people aren’t hiding money in their bed these days, and no one is wearing their pockets on the outside of their pants anymore. Sure maybe no one ever really wore their pants that way, but it could also be because Congress passed the banking act of 1933 and created the FDIC. FDIC stands for Federal Deposit Insurance Corporation, but we usually just say FDIC because the government loves acronyms. The FDIC is quite literally an insurance company and just like other insurance companies, they provide protection from an unforeseen event, in this case, a bank failure. They also function as a regulatory agency to make sure banks are following laws and guidelines.

What happens when an FDIC insured bank fails?

When a bank becomes insolvent, the FDIC essentially takes over the bank. Almost no matter what, the bank will still have some deposits and assets. The FDIC will try to sell the bank’s deposits and loans to another member bank. In this case, you the customer will find their deposits at a new bank. If for some reason the FDIC cannot successfully sell the bank, they will issue a check to the depositor directly.

It’s not the 1920s anymore, why should I care?

Sure, the Roaring 20s and all its banking peril are long in the past, but you might be old enough to remember the Savings and Loan scandal of the 1980s or the financial collapse of 2008. These were both significant events that wreaked havoc on the banking industry. Banks can still have problems and sometimes big problems. In fact, from 2008 to 2012, 465 banks completely failed. While most everyone felt the effects of the financial collapse in some way, bank depositors were spared significant loss thanks to the FDIC. This is why you absolutely want to make sure your bank is a member of the FDIC.

What else does the FDIC do?

Member banks are subject to strict overview of the FDIC. They monitor debts and assets and help to ensure banks have enough cash on hand for safe and responsible operation. They aren’t just guaranteeing your money, they are actively working to make sure the bank is healthy. Additionally, they work to make sure banks are compliant with the latest consumer and banking regulations.

Are there protections for borrowers as well?

Yes. The FDIC isn’t only focused on depositors, they protect borrowers as well. So if you are in the market for a home loan or you are looking to refinance those student loans, it’s important to pay attention to which lenders are FDIC members. Member lenders are under scrutiny to make sure the debt to income ratios for borrowers aren’t outside what borrowers can afford to realistically pay. You want to work with a member bank to ensure an upfront and transparent process.